MiCA: What are cryptographic instruments?

This post first appeared as Blog post at FIN LAW.

In October 2023, the Federal Ministry of Finance (BMF) published a first draft bill for a new one Financial Market Digitization Act (FinMaDiG). In addition to the introduction of national implementing regulations regarding the EU regulation, which will largely become legally effective in the summer of 2024 Markets in crypto assets (MiCA) The core content is, among other things, a planned change to the Banking Act (KWG). According to this, a new category of regulated digital units is to be created using cryptographic instruments, which should be clearly differentiated from the crypto assets that are now regulated under MiCA.

At the same time, the national definition of crypto assets should be deleted from the KWG and the safekeeping of cryptographic instruments should be subject to authorization. According to the draft law, the safekeeping of cryptographic instruments should in future constitute qualified crypto safekeeping and as such constitute a regulated financial service. But what does the legislature intend to do with the new introduction of cryptographic instruments and qualified crypto custody?

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The German concept of crypto assets cannot simply be deleted from the KWG

In the justification for its proposal to introduce qualified crypto custody and cryptographic instruments, the BMF states that the new terms are necessary to regulate a residual area of ​​application that is not covered by MiCA but was regulated under the previous national crypto regulation. In particular, financial instruments within the meaning of the MiFID2 regulation do not fall within the scope of MiCA.

The KWG, on the other hand, also covers tokenized MiFID2 products as regulated financial instruments and, within the scope of the definition of crypto assets, does not exclude the possibility that a crypto asset, according to the understanding of the KWG, is also a financial instrument within the meaning of the MiFID2 regulation. In Germany, crypto custodians approved under the KWG are currently also allowed to store security tokens that represent financial instruments within the meaning of MiFID2. However, the crypto custody license under MiCA will no longer allow this. In order to avoid having to subsequently prohibit previously permitted business from crypto custodians already approved under the KWG as a result of the switch to MiCA, the German legislature is now proposing to retain the previous definition for crypto assets in the KWG, but to apply it to cryptographic instruments in the future.

According to the draft law, cryptographic instruments will in future be digital representations of value that have not been issued or guaranteed by any central bank or public body and do not have the legal status of a currency or money, but are accepted as a means of exchange or payment based on an agreement or actual practice or investment purposes and which can be transferred, stored and traded electronically. According to the proposed legal regulation in the draft, electronic money, crypto assets according to MiCA, crypto securities according to the eWpG and crypto fund shares should not be considered cryptographic instruments.

Cryptographic instrument and qualified crypto custody should be conceptually revised

The intention of the legislature to continue to supervise crypto custodians with a BaFin license under the KWG to the same extent as before, even under MiCA, is not objectionable in terms of content and is a logical consequence of the historically chosen approach of requiring a license for crypto-related business models in Germany. However, the terms “cryptographic instrument” and “qualified crypto custody” proposed in the draft law are worded unnecessarily complicated and misleading. It is not clear why one cannot speak of a cryptographic instrument instead of a cryptographic instrument. Finally, the KWG in its current version also speaks of crypto values ​​instead of cryptographic values.

The term qualified crypto custody is even misleading. The term suggests that the financial service is an extension of crypto custody according to MiCA. In fact, however, qualified crypto custody should only refer to the custody of cryptographic instruments and therefore not to the custody of crypto assets. The new financial service would therefore represent an activity that is clearly distinct from crypto custody under MiCA and would have no overlap with it. The designation, for example, as crypto instrument safekeeping would therefore be more appropriate.